Actra Fraternal Benefit Society v. Her Majesty the Queen, [1995] 2 CTC 2671, 96 DTC 1722

Christie A.C.J.T.C.C.:—The taxation years under appeal are 1984, 1985, 1986, 1987. In reassessing regarding 1985, 1986, 1987 the Minister of National Revenue ("the Minister") added these amounts respectively to the appellant’s income: $326,796; $344,490; $379,955. In its returns of income the appellant had reported income of $20,124 for 1987 and non-capital losses of $8,796 in 1985 and $15,454 in 1986. These losses were carried back to the 1984 taxation year. The reassessments for 1985 and 1986 having converted the reported losses for those years into taxable income the carried back losses were disallowed in respect of 1984.

The appellant was incorporated on December 1, 1975 under the provisions of the Canadian and British Insurance Companies Act ("the Insurance Act") and as its name connotates it is a fraternal benefit society. The purpose of incorporation included the provision of various insurance benefits, e.g., life, accident, sickness to members of ACTRA. The letters patent incorporating the appellant expressly authorized it to enter into contracts of life insurance. It also engaged in administering registered retirement savings plans for members. ACTRA is an acronym for Alliance of Canadian Cinema Television and Radio Artists. The appellant commenced carrying on business on April 1, 1976.

Paragraph 149(l)(k) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the ’’Act”) provides:

149(1) No tax is payable under this Part (i.e., Part I) upon the taxable income of a person for a period when that person was

(k) a labour organization or society or a benevolent or fraternal benefit society or order

Subsection 149(3) provides:

149(3) Subsection (1) does not apply in respect of the taxable income of a benevolent or fraternal society or order from carrying on a life insurance business. [1]

In conjunction with its life insurance business the appellant created a life insurance fund ("the life fund”) and the issue to be resolved is this: is all of the investment income from the assets identified with the life fund to be included in computing the appellant’s income from its life insurance business for the years 1985, 1986, 1987? The respondent says yes. The appellant contends that only a portion is to be included.

What is relevant to this litigation is section 70 of the Insurance Act provides that designated officials of every company registered under the Act shall prepare annually, under oath, a statement of the condition and affairs of the company on December 31 in each year, showing the assets and liabilities of the company and its income and expenditures during the year then ended together with such other information as the Superintendent* [2] may from time to time deem necessary. The annual statement is required to be in such form as the Superintendent determines and shall be deposited in the Office of the Superintendent in each year on or before March 1, but such of the schedules thereto as are designated by the Superintendent may be deposited at any time on or before April 1. In respect of the life insurance business of every company, the designated officials are required to prepare under oath as at the last day of June and of December in each year and deposit in the Office of the Superintendent within the 31 days after each of those days, a statement, in such form as the Superintendent may determine from time to time showing the changes in the investments and loans of the company during the preceding half year.

Mr. Bhoop Singh is the president and chief executive officer of the appellant. He described ACTRA in this way: ”ACTRA is a professional association representing writers, actors, contract employees, and broadcast journalists in English-speaking Canada. Part of the function of ACTRA includes the negotiation of collective agreements with various engagers, that is, corporations such as the Canadian Broadcasting Corporation, the CTV Network, associations like the Canadian Film and Television Production Association, the Association of Canadian Advertisers, as well as the National Film Board and TV Ontario."

Prior to the creation of the appellant there existed the Board of Administration of the ACTRA Insurance and Retirement Plan. It was known simply as the Plan Board. [3] As a result of contracts between ACTRA and "engagers", who employed members of ACTRA ("members") and other individuals of like talent who were not members ("non-members"), engagers contributed or deducted at source a percentage of the gross fees payable to members and non-members and remitted the deductions to the Plan Board which allocated these funds to individual accounts of members for their benefit. Deductions pertaining to non-members were placed in a separate account as surplus of the Plan Board. [4] On November 20, 1975, the Plan Board passed a resolution authorizing the securities held by Royal Trust on its behalf to be transferred to the appellant forthwith upon its coming into existence. The value was $700,000 and the transfer was made for capital requirements of the appellant. The appellant allocated $650,000 to the life fund and the balance to the accident and sickness fund which were the two funds established upon incorporation of the appellant. At this time a $25,000 refund of contributions from Confederation Life was added to the $650,000 and $5,000 from the same source was added to the accident and sickness fund. In 1982 a third fund called the fraternal fund was established. Over the years the value of the life fund increased basically from investment income from its assets and money allocated to it from insurance contributions made by engagers.

In its statement to the Superintendent for the year ended December 31, 1987, the appellant reported income from three funds: the life fund, the sickness and accident insurance fund and the fraternal fund. During the years under review the entire business of the appellant was related to these three funds. These reasons are specifically concerned with the life fund. As indicated at the commencement of the reasons in reassessing for 1987 the Minister of National Revenue included in computing the appellant’s income the entire amount reported to the Superintendent as income earned by assets in the life fund. The same was done with respect to 1985 and 1986. In reassessing for 1984 the Minister simply disallowed the non-capital losses that had been carried back to that year from 1986 and 1987.

Only members had the benefit of life insurance and no insurance benefits were paid to non-members out of the life fund. This was in accordance with subsection 81(1) of the Insurance Act. It reads:

81(1) Subject to subsection (2), where any company, in the exercise of its powers, combines such business with other classes of insurance business, it shall maintain separate and distinct accounts, funds and securities in respect of its life insurance business, and such funds and securities shall be available only for the protection of the holders of its policies of life insurance, and shall not be liable for the payment of claims arising from the other class or classes of business that the company transacts.

There existed for the members two group insurance policies in which the appellant was the insurer that relate to life insurance and other kinds of insurance. In the course of being cross-examined the witness described the coverage in this way: "The benefits provided under the group policy were group life insurance, accidental death and loss of use benefits, extended health care benefits, dental care, as well as weekly income benefit in case of sickness or accident." Premiums were paid to the life fund for life insurance coverage. The life insurance coverage was term insurance and benefits of this kind paid to members were, during the years under review, paid out of the life fund.

This is the way Singh explained how the percentage contributed by engagers for insurance purposes was dealt with prior to the dissolution of the board in June 1982:

Before 1982, the moneys were received by the Plan Board where it was held in trust until the end of the year. The benefits for each member were determined in February of each year for the following benefit year which begins on March 1. And once the benefit is determined, the annual premiums are also determined at that point in time. The Plan Board will then pay monthly to the Society cheques issued to the life fund for the life insurance premiums, or a second cheque issued to the accident and sickness fund for the members’ protection under the accident and sickness benefits.

He said that this is what occurred respecting the engagers’ contributions for insurance after June 1982 and this applied to the years under review:

The Plan Board no longer existed after June 1982, so all the contributions for insurance purposes came into and were received and deposited in the fraternal fund of the Society. They were kept there in trust again until February of the following year when we did an annual reclassification of all members and based on the benefits of each individual member, we were able to determine how much premiums were due for life insurance, how much was due for accidental death, how much was due for dental care, how much for weekly income benefit, and how much was due for extended health care, and these monies were paid. Actual premiums for these benefits were then paid to the life fund as applicable, or the accident and sickness fund as applicable.

This exchange then followed between counsel for the respondent and the witness:

Q.But can we take it that the entire 2 per cent, and later 3 per cent, received from engagers’ contributions for insurance wound up in either the life fund or the sickness and accident fund?

A.No, sir. What would happen, let’s assume that you worked during the course of a year, CBC you did some work for, CTV you made a movie, you did a commercial, whatever you may have done, and you earned income of let’s say $10,000. Three per cent of that would be equivalent to $300. That will be coming in and be deposited in the fraternal account as it is received. When we get to the end of the year, let’s say early February, just before the new benefit year begins, we reclassify you for benefits.

Q.What do you mean by reclassify?

A.Well, it’s a group plan; therefore, at the end of each year, all benefits cease and we have to determine what your new benefit will be for the new year. So we have to do an annual reclassification, as we call it, of every member of the Society.

Q.To determine his benefits.

A.For the following benefit year, which starts on March 1.

Q.And the determination of the benefits also determine the premiums necessary.

A.That is correct, sir.

Q.To cover those.

A.To cover those benefits. So in a situation which I said if you earned $10,000, we received $300 of contributions. Now, we will have to see what maximum benefits you will get for your $300. So that if you can be in classification 4, which costs $250, but classification 5 costs $350, you don’t have enough to get a classification 5 because you only have $300, so we will pay your premiums of $250 to the life fund and the sickness fund and retain that $50 on your behalf in a separate reserve. So that does not go, that $50 does not go at this point in time to the life fund or to the sickness fund. It’s withheld by the Society on your account as a reserve in the fraternal fund.

Q.Okay, but the 2 per cent and the 3 per cent engagers’ contributions, they may not all actually wind up in the life or sickness and accident funds. Part of them, if I understood you correctly, may wind up in members’ reserves.

A.Yes, sir.

Q.But what I was after is none of these 3 per cent stays in the fraternal fund.

A.That $501 just referred to will stay in the fraternal fund on your behalf.

Q.Okay, but on insurance accounts.

A.On insurance account on your behalf.

Q.Right, so it’s earmarked for insurance purposes.

A.Yes, sir.

His Honour: All $300?

The witness: The whole $300 is earmarked for insurance, but if you only require $250 this year, we will retain that $50 on your account.

His Honour: And you can use that $50 later to pay premiums.

The witness: Yes, sir.

The witness estimated that out of annual contributions by engagers for insurance of approximately $2.6 million, $450,000 to $550,000 would go to the life fund which was "strictly separate from the accident and sickness and fraternal funds". Accounts pertaining to these funds were separate.

Subsection 96(2) of the Insurance Act provides:

96(2) There shall be included in the annual statement a report made by an actuary appointed by the society, including therein, in such detail as the Superintendent may from time to time require, the results of an actuarial valuation, as at the date of the statement, of each of the benefit funds maintained by the society, having regard to the prospective liabilities of, and contributions to each fund, and the actuary shall certify as to each fund that, in his opinion, the reserve shown by such valuation, together with the premiums, dues and other contributions to be thereafter received from the members according to the scale in force at the date of valuation, is sufficient to provide for the payment at maturity of all the obligations of the fund without deduction or abatement.

The witness testified that the report and certificates of the actuary pertaining to the annual statement to the Superintendent for 1987 were submitted to the Superintendent. The surplus, 1.e., the excess of the assets over the deductions, in the life fund at the end of 1987 stood at $3.564 million, an increase from $675,000 in 1975. The numbers for 1985, 1986 were $3.134 million and $3,748 million respectively. In January 1988 the life fund was depleted by the appellant to $1,040,000 by way of transfer.

The second witness called on behalf of the appellant is Mr. A.E. John Thompson, C.A. He was declared qualified to give expert evidence in the field of accounting for the purposes of these appeals.

In late 1987 or early 1988 he was asked by the appellant’s accountants, Coopers & Lybrand, to ’’look over its (the appellant’s) whole tax status and to advise on what sort of tax provisions they needed in their accounts". It was Thompson’s view that the appellant had not been reporting its income from its life insurance business properly [5] and he recommended a review of "the whole status of their accounting for surplus in the life fund and their method of reporting for tax purposes". The advice was accepted and in reviewing the appellant’s life insurance operation it appeared to the witness that the surpluses relating thereto were far in excess of what would usually be regarded as appropriate. To arrive at proper amounts for the years under review he enlisted the aid of an actuary, Mr. J.B. Patterson.

Thompson’s view of the manner in which investment income should be computed is set out in a letter by him to Revenue Canada dated April 28, 1989. The letter reads:

We are writing on behalf of the ACTRA Fraternal Benefit Society to provide you with revised taxable income calculations for the Fraternal’s life insurance operations for its 1985-87 taxation years. We understand that these revised taxable income calculations will be included in your submission to Ottawa and that you generally support the method being suggested by ACTRA to compute the investment income related to its life insurance operations.

The amount of the life fund used as a base for computing the investment income is comprised of its accounts payable, outstanding claims, paid up insurance reserve, contingency reserve, mortality fluctuation reserve and the minimum surplus recommended by Jack Patterson, consulting actuary, for the life insurance operations. The investment income for each of the years is then calculated by applying the average yield rate for the particular year to an average of the Life Fund’s opening and closing investment income base. The use of the average yield rate was agreed upon during our most recent conversation, due to the acknowledged practical difficulties involved with trying to identify yields of specific assets. Furthermore, you would want to be satisfied in any event that the reported investment income substantially reflected the average yield.

You will also note the revised MAXTARS [6] reported to OSFI [7] by Jack Patterson. These have been included in the revised calculations of taxable income.

We trust the enclosed schedules provide you with the information you require. If you have any questions or comments, please call Stephen Korczak.

There are three documents attached to the letter. The third is entitled ACTRA Liabilities, Reserves and Minimum Surplus for Life Fund Summary. The body of the document reads:

[Not reproduced.]

As indicated earlier in these reasons, the life fund at the end of 1985, 1986, 1987 stood at $3.134 million, $3.748 million, $3.564 million respectively.

The witness said this regarding the attachment:

In general terms all items except the surplus at the bottom could be thought of as the liabilities of the business made up of, first of all, accounts payable, $14,000, and outstanding claims yet to be paid, $38,500, and $35,183, and then other actuarial reserves, and mortality fluctuation reserve. All those could be thought of just in general terms as liabilities of the life insurance operation. The vital number at the end, $625,00, is the surplus that was estimated by Jack Patterson, actuary, to be the appropriate amount of surplus to back up the life insurance operation.

He also added with reference to the minimum surplus: "That’s the key thing, that’s the real issue." The second document attached to the letter is entitled: ACTRA Life Fund Revised Investment Income Calculation. The body of the document reads:

Revised Investment Income Calculation:

Average 1984-85 (493,661 + 868,615) + 2 x .10847		$73,883
Average 1985-86 (868,616 + 924,972) + 2 x .0986	=	$88,424
Average 1986-87 (924,972 + 1,061,768) + 2 x .0936	=	$92,979

Note: (1) As reported on INS 56 to OSFI and used to compute taxable investment income on filed returns.

It will be noted that the investment income bases are the bottom lines of the third document. This exchange took place between counsel for the appellant and the witness:

By Mr. Groia: Q. Mr. Thompson, that base rate of $1,061,769, how does that compare to the total assets of the fraternal as reported to OSFI? I don’t need numbers, but just in general terms.

A. Well, at the end of 1987, the total surplus would have been about $3.6 million, I believe, whereas this is based on a surplus of $600,000. So that I assume the total assets reported to OSFI would be about $4 million, roughly speaking.

Q. Why then did you not calculate your taxable income using the base rate of $3.6 million from the OSFI statement?

A. Well, because in my view as an accountant the experience in the taxation of life insurance companies and in looking at the financial statements of life insurance companies, the extra $3 million in the surplus seemed far beyond what was needed for this, or what was appropriate for this kind of life insurance operation.

The first attachment to the letter is entitled: ACTRA Fraternal Benefit Society Life Fund Revised Taxable Income and Federal Tax Payable. It reads, as amended in August 1989:

“Taxable Income:

	1985	1986	1987
Net Income (Loss)
Originally Reported	(8,796)	(15,454)	20,124
Add: Revised Investment
Income (see schedule)	73,883	88,424	92,979
Originally MAXTAR deduction
- current year	37,453	49,865	55,505
Revised MAXTAR deduction
- prior year	—	27,616	28,592
Less: Originally Reported
Investment Income	(8,527)	(5,510)	(9,045)
Revised MAXTAR deduction
- current year	(27,616)	(28,592)	(20,322)
Original MAXTAR deduction
- prior year	—	(37,453)	(49,865)
(Increased) decrease in unpaid
claims added back as part of
increase in actuarial reserve
reported to OSFI	(21,500)	21,500	(22,000)
Revised Net Income (Loss)	44,897	100,396	95,968
Federal Tax Payable:
Revised	16,570(1)	37,949(2)	35,086(3)
Original	--	-	(7,357)
Increase in Federal Part I Tax	16,570	37,949	27,729

Notes:

(1) [(.46 - .10) x (1.0252054) x 44,897 = 16,570

(2) [(.46 - .10) x 1.05] x 100,396 = 37,949

(3) [(43% + 3% x 131 + 2% x 184 - 10%) x 1.03] x 95,968 = 35,086"

365 365

Under cross-examination the witness agreed that in 1987 the appellant’s investment income from assets in the life fund as indicated in its corporate financial statements was $388,842. The same investment income reported to the superintendent was $389,000, which is $388,842 rounded. As indicated at the commencement of these reasons, in reassessing for 1987 $379,955 was added to investment income. This plus investment income of $9,045 reported for that year equals $389,000. As Thompson said: "So what the department wound up doing in taxing the appellant for 1987 was just tax the entire $389,000 investment income from the life insurance fund." A similar pattern exists with respect to 1985 and 1986. Counsel for the appellant added: "If it helps the Court, the taxpayer is prepared to stipulate that, if your Honour decides that all of the income from the life fund as reported on the OSFI statement ought to have been reported as taxable income then we are prepared to stipulate that the mathematical calculations that are before you are correct." At times relevant to these appeals the appellant was very concerned regarding the dangers of an AIDS epidemic. Thompson was certain that Patterson had taken that into account in arriving at the advice he gave regarding minimum surplus.

The last witness is Mr. Walter S. Rosenblat, an actuary with the firm of Martineau Provencher. Since 1989 that firm had been employed from time to time by the appellant. He described minimum surplus in these words:

The intent really is to provide for an amount to absorb what you would call the volatility in the results. As I’ve previously explained, it would only be by pure coincidence that the exact amount of premium collected would equal the exact amount of claims. That’s understandable. It’s within generally accepted actuarial practice. So we would want to set aside an amount which would be sufficient and adequate to cover volatility in the results, taking into account the, once again, the nature and structure of the arrangements, and riskiness, if you will, that would affect that volatility, and that essentially provides, as you call it, a cushion that should be quite adequate and sufficient for running the life insurance business.

In his opinion the minimum surplus of $550,000 (1985), $600,000 (1986), $625,000 (1987) set by Patterson was on the high side of what he regarded as adequate and appropriate.

The Court was referred to a letter dated September 14, 1988, to Singh from Patterson in which the latter said that in setting the minimum surplus of $625,000 for 1987 the main purpose was to protect against the unknown risk of AIDS which was growing rapidly.

Rosenblat would have calculated minimum surplus as 50 per cent of life insurance premiums net of expense loads, if any, charged in the premium year. Under this method his minimum surplus for 1985 would be $93,000 compared to Patterson’s $550,000; for 1986 $130,000 compared to Patterson’s $600,000; for 1987 $147,000 compared to Patterson’s $625,000. Thus Rosenblat regarded as an adequate minimum surplus for 1985, 1986, 1987 amounts that were only 16.9 per cent, 21.6 per cent, 23.5 per cent of those set by Patterson. Later he added that it was possible that other actuaries would settle on figures below his $93,000, $130,000, $147,000, but not "substantially less".

The witness was of the opinion that the $3.564 million in the life fund at the end of 1987 was "well, well in excess by any measurement" of what was necessary for the appellant’s life insurance business.

It is the submission of the appellant that these appeals can be disposed of in one of three ways. They are:

A. simply allow them on the ground that the Minister erred in concluding that all of the investment income arising out of the assets in the life fund during 1985, 1986, 1987 are to be included in computing the appellant’s income for those years for the purposes of the Act;

B. allow the appeals and refer them back to the Minister for reconsideration and reassessment on the basis that the appellant’s income from its insurance business was correctly determined by Thompson, namely, 1985-$73,883; 1986-$88,424; 1987-$92,979, which would also eliminate the losses carried back to 1984; or

C. allow the appeals and refer them back to the Minister for reconsideration and reassessment on the basis of the Thompson formula, except that in each of the years 1985, 1986, 1987 the minimum surplus would be $1,040,000 which is what was left in the life fund after its depletion by way of transfer in 1988 rather than minimum surpluses of $550,000 (1985), $600,000 (1986), $625,000 (1987).

The primary focus of the appellant’s argument relates to B and the manner in which I deal with this shall, as will be seen, also dispose of A and C. The essence of the submission pertaining to B is that assets in the life fund in 1985, 1986 and 1987 were far in excess of what was necessary for the purposes of its life insurance business and that only the investment income on what was necessary should be included in computing the appellant’s income for the years just mentioned. Further it is submitted that the necessary amounts are those set out in the Thompson formula, the key to which is the minimum surplus amount prescribed by Patterson. In my opinion, for the purposes of the Act, the assets appropriately in the life fund from time to time are what the appellant determines should be in the fund. It is a business decision for it to make, subject to any direction that might be made by the Superintendent. But it must be borne in mind that the Superintendent is concerned with solvency and not whether the life fund attracts income tax and, if so, how much. The Superintendent can have no objection to assets in a life fund that exceed his views about what is adequate in respect of solvency. Indeed Thompson said that the greater the excess the better people in the Superintendent’s office would sleep.

In making that business decision, the appellant is, of course, at liberty to consult with lawyers, chartered accountants, actuaries or anyone else. But it is not bound by such advice and in the last analysis what matters is what is decided upon by it. [8] The testimony of Rosenblat in relation to the recommendations by Patterson clearly suggest that there is nothing approaching mathematical certainty about what should be in a life fund. And, most importantly, as long as assets are in the life fund they are under subsection 81(1) of the Insurance Act affixed with a statutory condition or charge requiring that "such funds and securities shall be available only for the protection of the holders of its policies of life insurance and shall not be liable for the payment of claims arising from the other class or classes of business that the company transacts". To my mind this subsection of itself makes all of the assets in the life fund a constituent part of the appellant’s "life insurance business" and it is taxable income from that business that is made liable to income tax under subsection 149(3) of the Act. I emphasize that in enacting subsection 81(1) Parliament committed the assets in the life fund exclusively to an essential purpose directly related to the appellant’s life insurance business, namely, the protection of the holders of its life insurance policies. Even if, on the basis of the testimony of Thompson and Rosenblat, it can be said that such a total commitment was unnecessary for the purposes of that business, this cannot diminish from the exclusivity of the commitment as prescribed by Parliament.

While numerous authorities were cited in the course of argument special mention was made by counsel for both litigants of the decision of the Supreme Court of Canada in Ensite Ltd. v. The Queen, [1986] 2 S.C.R. 509, [1986] 2 C.T.C. 459, 86 D.T.C. 6521. For that reason I shall comment on that case. The essential issue was whether interest earned by the appellant from United States dollar deposits with banks in the Philippines was "foreign investment income" within the meaning of paragraph 129(4)(b) of the Act. These deposits were made to comply with Philippine law in relation to an investment by the appellant in a stamping plant pertaining to the manufacture of automobile engines. The intricacies surrounding these deposits need not be related for present purposes.

The Minister reassessed Ensite in respect of its 1976 taxation year on the basis that the interest was not "foreign investment income" under paragraph 129(4)(b) because it was income from "an active business" or was income from "property used or held by the Corporation in the year in the course of carrying on a business".

When the Ensite case was before the Federal Court of Appeal ([1983] C.T.C. 296, 83 D.T.C. 5315) Mr. Justice Le Dain who delivered the judgment of the Court based his reasons on the earlier judgment of that Court in À. v. Marsh & McLennan Ltd., [1983] C.T.C. 231, 83 D.T.C. 5180, where he postulated this approach to determining whether property is used or held in the course of carrying on a business within the meaning of subsection 129(4): "Was the fund employed and risked in the business?" In Ensite he said at 300 (D.T.C. 5319):

Whether or not it was essential to do so, the fund represented by the U.S. dollar deposits was in fact committed to the carrying on of Ensite’s business in the Philippines. It was employed and risked in the business because it was an integral part of the arrangements by which the business was being financed.

Wilson J. agreed with the "test" employed by Le Dain J. She found it to be specific and that it emphasized "that the holding or using of the property must be linked to some definite obligation or liability of the business" (page 518 (C.T.C. 463, D.T.C. 6524). At page 519 (C.T.C. 464, D.T.C. 6525) she added: "The use of words such as ‘employed’ and ‘risked’ appropriately implement Parliament’s intention." In the result it was held that the U.S. funds on deposit were employed and risked in Ensite’s business and the appeal was dismissed. In my opinion there is no need in the case at hand to resort to the kind of test, or some variation thereof, formulated by Mr. Justice Le Dain and adopted by the Supreme Court of Canada. In Ensite and Marsh & McLennan there was no analogue to subsection 81(1) of the Insurance Act in existence pertaining to the legislation under consideration in those appeals. I believe that the effect of subsection 81(1) is to lock the investment income producing assets in a fund like the life fund into a fundamental purpose of a life insurance business, the payment of claims. Consequently the income from the assets in its life fund is income to the appellant from carrying on a life insurance business within the meaning of subsection 149(3) of the Act.

The appeals are dismissed.

Appeals dismissed.